Effects of Working Capital Management and Liquidity - Bangladesh ...

38Journal of Business and Technology (Dhaka)conducted by Lazaridis and Tryfonidis (2006) in Greece. This study is tomeasure the extent of dependency of profitability over working capitalcomponents for Bangladesh context.2. LITERATURE REVIEWThe attention of academicians and managers over optimizing working capitalcomponents is not very new, rather, many have provided with a variety ofthoughts for the welfare of businesses over many years. For over 25 years ago,Largay and Stickney (1980, p. 53) had reported the importance of cash positionfor sustainability of the firm. Lazaridis and Tryfonidis (2006), had found arelationship between working capital management efficiency and profitabilityand so did Shin and Soenen (1998), Deloof (2003) and many others. Thus it wasobvious that the firms would have to suffer if it does not take steps to minimizetheir dependency on external sources of funds.According to Deloof (2003) the way that working capital is managed has asignificant impact on profitability of firms. It has also been proved that byminimizing the amount of funds tied up in current assets; firms can reducefinancing costs and/or increase the funds available for expansion. Summers andWilson (2000) report that in the UK corporate sector more than 80% of dailybusiness transactions are on credit terms. Cote and Latham (1999, p. 261) arguedthe management of receivables, inventory and accounts payable have tremendousimpact on cash flows, which in turn affect the profitability of firms. As found byLazaridis and Tryfonidis (2006), companies enjoy better pricing when they holdenough cash to purchase from own suppliers and thus they may enhance theirprofit. So having enough liquidity also affects the profitability of the firm.As found by Long, Malitz and Ravid (1993) it is seen that liberal credit termsto the customers increase the sales level of the firm, though having a continuoustrouble with managing short term financing in the finance department. Butextensive use of liberal credit terms to customers reduces the profitability of thefirm. It is up to the firm depending on its nature of business to decide whether tochoose liberal credit terms to enhance marketing to the customers or to focus onprofitability of the firm with minimizing its cash conversion cycle and optimizelevel of cash holdings.Moyer, Mcguigan and Kretlow (1995, p. 11) found that WC consists of alarge portion of a firm’s total investment in assets, 40 percent in manufacturingand 50% - 60% in retailing and wholesale industries respectively. Scherr (1989,p. 16) claimed that by implementing best practices in WC, companies canstrengthen strong cash flow levels, improve profitability, budgeting andforecasting process.